As this column is being written, the government is shut down, which is bad, but temporary. The bigger debate is over raising the debt limit, which will be reached on about Oct. 17. The consequences of failing to increase it would be permanent, would cost taxpayers trillions of dollars, and would benefit mostly the foreign creditors who loan our government money.
The debt limit was created in 1917 and has been raised routinely, including 18 times during President Reagan’s administration and 10 times since 2001. Denmark is the only other democracy that has one.
With the national debt now $16.7 trillion, it’s understandable that many Americans say the debt limit should not be raised. Why keep going into debt? But that’s not how the debt limit works. Were the federal government to breach the debt limit, it would continue to rack up bills because Congress hasn’t changed the nation’s taxing and spending policies. The U.S. Treasury Department simply wouldn’t pay for all of those obligations, temporarily. The bills would be paid later.
Imagine if the federal government were your household, and you were routinely spending $5,000 a month, much of it on accumulated obligations, but only making $4,000 a month in income. So you make an announcement: “Honey, we’re not going into any more debt!” However, you make no changes to your spending habits and don’t increase your income. You don’t create a balanced budget. In fact, you don’t create a budget.
What would happen? In the short-term, the bills would pile up, but the real pain would come when you inevitably had to beg for a loan. The bank, which previously offered you very good rates because it considered you a safe credit risk, no longer trusts you because you did not pay your bills for a while. It offers you a loan at much higher rates. So in addition to the $1,000 you were overspending, you now face higher interest payments.
For this fiscal year 2013, the federal government will spend somewhere north of $400 billion in interest payments, depending on how much it paid in September. That’s an annual rate of about 2.4 percent.
Why so low? A big reason is interest rates for everybody are low right now, thanks to the Federal Reserve’s policies. But another major reason is the investors who finance the debt — those who own treasury bills, United States savings bonds, etc. — believe the U.S. government is the world’s safest investment. That includes foreign entities who, according to the U.S. Treasury, have financed $5.6 trillion of the debt. China, at $1.28 trillion, and Japan, at $1.14 trillion, are by far the biggest foreign creditors.
Currently, those investors are not making much money off U.S. taxpayers, but, like a banker, they are not doing this out of the goodness of their hearts. There is competition for our money because everyone believes that if anybody in the world is going to pay a loan back, it’s Uncle Sam.
But if investors were to doubt the U.S. government’s creditworthiness, that trust would dissolve. Interest rates paid by current and future American taxpayers would rise by hundreds of billions of dollars each year. Meanwhile, the world’s safest investment would no longer be seen as safe, creating a ripple effect throughout the American and global economies.
That’s what will happen if elected officials continue to play these games with the full faith and credit of the United States. Failing to pass a debt limit increase would not reduce government spending, and it wouldn’t decrease the debt. In fact, it would increase them both because interest rates would rise. China would get more of our money. For a long, long time.
You can’t reduce your debt simply by declaring you won’t pay your bills. The solution is for Congress and the White House to do what a responsible person would do – create a plan that leads to income equaling outgo, and then stick to that plan.
That’s hard to do when you’re squabbling about how to keep the government’s doors open.
Steve Brawner is an independent journalist in Arkansas. His email address is email@example.com. Follow him on Twitter at @stevebrawner.